Political crisis and economic pressure form a deadly cocktail. Sri Lanka and Lebanon provide an example of what can happen if impasse prevents a government from taking timely action to avert catastrophic collapse.
Imagine a patient with high blood sugar levels. If said patient does not change course quickly and take the prescribed medications, complications set in. Ignore these complications and the patient’s life is in danger. A country’s economy works the same way: ignoring the warning signs and doubling down on making the wrong decisions can lead to contagion, turning what was once a relatively manageable situation into a many-headed hydra. threatening the very foundations of a nation-state. With no functioning federal government, around two months of import cover and a disastrous energy price freeze policy in place, Pakistan is staring into the abyss. An immediate course correction is needed, but an ongoing political and constitutional crisis means there is no captain to steer the ship to stable waters.
Sri Lanka offers an example of what happens when crises mutate at an exponential rate. The island nation has faced challenges from the external sector for several years, with the coronavirus pandemic worsening the situation as inflows of dollars from tourism dry up. A shrewd policy at the time could have stabilized the situation, but the Rajapaksa regime, where the family itself dominated decision-making, kept multiplying bad policy choices one after another. One example was the ban on chemical fertilizers which led to farmer protests and a dramatic drop in the production of key commodities including tea and rice. As reserves collapsed, the regime delayed negotiations with creditors and the IMF; the country ultimately ended up with around $2 billion in reserves and $7 billion in debt repayments due in 2022.
What was initially a balance of payments crisis quickly turned into a socio-political crisis. The value of the foreign currency has collapsed, declining more than 30% since the start of the year, making it the worst performing currency in the world. The shortage of foreign currency means the country is now rationing electricity, with the country’s utilities announcing power cuts of up to 6.5 hours a day from April 6 to April 8. Petroleum products are scarce and essential foodstuffs are not readily available. on the stairs ; inflation reached 19% in March, the highest in Asia.
Sick and tired of pain, Sri Lankans took to the streets, protesting outside Rajapaksa’s house, clashing with police. As the situation escalated, the government declared a state of emergency and restricted access to social media to stop the protests, but that did not help. By the time Rajapaksa decided to bring the opposition parties together, it was too late. The government’s own allies dissent, Rajapaksa is ordered to resign, and Sri Lankan society faces unprecedented upheaval.
Lebanon is another example of how unresolved economic and political crises can mutate exponentially and lead to widespread chaos. What the World Bank has called one of the worst financial crises in centuries did not happen overnight. Political tensions in the region, starting with the civil war in Syria, set things in motion. Lebanon’s central bank offered higher interest rates on dollar deposits, but these returns were paid for with money from new deposits, as Lebanon was not earning enough dollars to pay these rates. Eventually people caught on and in 2019 things started spiraling out of control.
As a result, Lebanon’s real GDP shrank by 21.4% in 2020 and by 10.5% in 2021. The currency lost more than 90% of its value against the dollar on the black market. Inflation soared to 145% in 2021, the third highest rate in the world behind Venezuela and Sudan; in February 2022, inflation was 215%. Strapped for funds, the government proposed new taxes, including a tax on WhatsApp calls, which fueled anger in the streets.
The pandemic has dried up tourism revenues and a major explosion at the port of Beirut has highlighted the breakdown of basic governance due to the current crisis. Essentials have been hard to come by, with recent reports indicating flour mills across the country have closed, threatening more than 50% of the country’s flour supply. The country is negotiating a program with the IMF to stabilize its economy and the government has defaulted on more than $30 billion of its external debt. Total financial losses from the crisis are estimated at around $69 billion and it faces further pressures from rising commodity prices. Lebanon, once the success story in the region, has now become a basket case.
This is not to say that Pakistan faces the same nature and scale as the crises facing Sri Lanka and Lebanon. The fact is that political uncertainty, coupled with populist economic decision-making and external sector pressures, can quickly turn into socio-economic crises. With the decision of Imran Khan’s government to freeze energy prices and provoke a constitutional crisis, the country’s risk premium in the international bond market has reached its highest level since 2013. Two months of import coverage mean that it will be difficult to find an influx of dollars. an urgent necessity. All of this must be done at a time when the country is deeply divided and the political and constitutional crisis persists.
Making tough decisions to bring some level of stability to the macro economy in this environment is going to be a herculean task. This will force a government to bear significant political costs and deal with unprecedented social pressure, while pushing the political process forward until elections. Overall, the country’s political and non-political elites have their work cut out for them, and it’s time for them to resolve their political differences and focus on the emerging economic crisis. Any further delay risks causing socio-economic chaos.